Employer practices

New Evidence Shows Internal Labor Markets Favor Higher-Wage over Lower-Wage Workers

Andrew BoardmanJanuary 24, 2022

In recent decades, workers in the United States have faced widening inequality and limited prospects for upward mobility. Over the same period, employers have offered workers fewer chances for career advancement and skill development within companies, opting instead to find talent on external job markets. Given the concurrence of these trends, could a renewed emphasis on internal hiring help broaden opportunity?

A recent paper published in Social Forces by Nathan Wilmers and William Kimball at the Massachusetts Institute of Technology Sloan School of Management explores this question, using new data and methods to examine how an increase in within-firm career paths would affect lower-paid and higher-paid workers.

The study’s results indicate internal hiring can improve prospects for some traditionally disadvantaged workers, particularly those without college degrees. But overall, researchers find that an increase in within-firm hiring—holding constant the overall level of hiring in the labor market—leads to less upward mobility for workers in lower-paying occupations. The conclusions underscore the importance of outside job options to low-wage workers’ mobility and suggest a more comprehensive approach is needed to facilitate their advancement on the job.

Processes of within-firm promotion and occupational advancement were once common in the United States and are less so today. Large employers in the mid-20th century made prevalent use of internal labor markets, arrangements offering entry-level workers pathways for internal job moving, training, and specialization. Such systems tended to insulate employees from external market forces. This led to longer employment relationships in which companies provided skill development opportunities for workers starting in lower-paying occupations.

Internal job advancement became less ubiquitous in the late 20th century, supplanted by a more market-oriented management approach characterized by increased outsourcing, the fissuring of workplaces, and the erosion of within-company career ladders. Employers and workers came to rely more on the outside market to find talent and opportunities. Occupational mobility within companies is now so anomalous that when David Abney was appointed CEO of UPS in 2014 after beginning his career with the corporation four decades earlier as a package loader and later a truck driver, the Washington Post described his trajectory as symbolic of an “increasingly rare breed.”

Wilmers and Kimball set out to determine whether more internal hiring in today’s economy would improve mobility and reduce inequality—or whether it would exacerbate disparities between higher- and lower-paid workers. To assess workers’ opportunities for upward movement, the researchers examine occupational stratification, or inequalities in job advancement based on a person’s starting point. They test whether an increase in within-company hiring—and a corresponding decrease in hiring between organizations—helps workers in lower-paid occupations move up the job ladder or whether it favors those already in better-paying roles.

Competing forces at play

The researchers present two competing forces that together determine the impact of internal hiring on workers’ mobility opportunities. On one hand, within-firm hiring can be exclusionary. Unemployed people and those working in firms with few positions to advance into will see their opportunities diminish if employers give advantages to incumbent employees. This dynamic, which suggests an increase in internal hiring could widen inequalities in mobility, is particularly troubling in light of the United States’ increasingly fragmented labor force, where workers in lower-paid occupations are more and more isolated in companies with no ladder to ascend.

On the other hand, internal labor markets hold promise for certain workers who traditionally face hiring barriers, such as those without formal education credentials. Organizational advancement pathways offer opportunities for workers to demonstrate their capabilities in the workplace, lessening employers’ reliance on often imperfect proxies for aptitude and skill attainment, such as college degree completion. This dynamic suggests favoring internal job candidates could promote mobility and reduce inequality.

Wilmers and Kimball develop a methodology to weigh these competing forces. Analyzing responses from the Current Population Survey, they estimate both the direct effects of internal mobility for workers who make job moves as well as the effects of an uptick in internal hiring in local labor markets. The researchers consider not only the impacts on people who are chosen for jobs but also consequences for those passed up as a result of greater within-company hiring. With this approach, they compare the advancement outcomes of workers starting in lower-paid occupations with those of workers beginning in higher-paid occupations. They also compare outcomes for workers with varying levels of educational attainment.

Internal labor markets preserve occupational stratification

The paper’s findings show an increase in internal hiring would, on balance, have a negative effect on lower-wage workers’ mobility opportunities. When employers favor incumbent employees over outside candidates, “workers in lower-paid occupations are less likely to move up the occupational hierarchy,” Wilmers and Kimball write. “Mobility inside employers thus does more to preserve occupational stratification than does mobility in the open labor market.” Overall, people in lower-paid occupations see greater benefits from switching employers. As a result, a move toward internal hiring would provide the most opportunity for advancement to workers already in higher-paying positions.

Yet the study also finds internal labor markets can provide a boost to workers with lower levels of educational attainment. Based on their analysis of mobility outcomes by education level, the authors find when companies provide more within-firm career paths, workers with fewer education credentials benefit more than workers with more credentials. This result is consistent with past research finding internal hiring offers workers opportunities to prove themselves on the job, reducing the importance of formal education credentials.

Ultimately, however, opportunities opened for workers with less education are offset by the elimination of opportunities for workers in companies without accessible job ladders. Workers in lower-wage occupations disproportionately find themselves stuck in workplaces with few opportunities for upward career movement. The net result is that people in low-paying jobs “receive a relatively smaller occupational attainment payoff from within-employer moves compared to between-employer moves,” the authors write.

Lower-wage workers are isolated in firms

Why aren’t lower-wage workers’ prospects improved more by internal hiring? One sizable factor is the growing prevalence (PDF) of companies dominated by low-wage jobs and the related trends of workplace fissuring and outsourcing. One-third of the disparity in mobility outcomes caused by an increase in within-firm hiring is explained by the isolation of lower-paid workers in firms with few positions to ascend into, the study finds. Rather than offer “a ladder of opportunity” for lower-wage workers, the researchers write, “organizational boundaries can block upward mobility.” The findings also reinforce that the inverse is true: people already in better-paying jobs are more likely to work in companies offering greater opportunities for occupational advancement.

The study demonstrates two important lessons for those interested in improving economic mobility and reducing inequality. The first is the crucial role of outside options in facilitating lower-wage workers’ movement to better-paying jobs. Moving to a new employer is a key mechanism for workers in low-wage occupations to raise their earnings and advance their careers. This conclusion reflects a dynamic present in today’s economy as workers are switching employers at elevated rates, amid other signs of labor market tightness. Wilmers and Kimball’s findings are compatible with research from previous economic cycles showing strong labor market conditions help workers upgrade to higher-paying employers.

Second, the results indicate that a comprehensive approach is necessary to actualize mobility opportunities for all within organizations. Within-firm job movement can improve prospects for some workers who traditionally face barriers, such as those without college degrees. But absent additional changes to support the advancement of workers in lower-paying occupations, increased internal hiring will on balance exacerbate labor market inequalities. If a pathway from an entry-level role to a well-compensated occupation is to become something more than a “rare breed,” a broader set of challenges must be addressed by both employers and policymakers.